Senator Christopher J. Dodd (D-CT) and the Investment, Accounting, and High-Tech Computer Industries
Americans are pouring their earnings into Wall Street like never before, confident that the bull market will make all their dreams come true -- new houses, cars, college education for their children, and, when the time comes, a comfortable retirement. In 1965, just 10.4 percent of American households owned stock either directly or through mutual funds. By 1990, the percentage was up to 21.1, and by 1997, the figure doubled to 43 percent, according to a survey conducted for NASDAQ.(1) Assets in mutual funds are now at $4.5 trillion -- nearly twice as much as the $2.7 trillion on deposit at commercial banks.(2) The Investment Company Institute, the main trade association for the mutual fund industry, reports that Americans have about $1 trillion earmarked for retirement invested in mutual funds.(3) In February 1998 alone, $28 billion poured into long-term mutual funds.(4) As Arthur Levitt, chairman of the Securities and Exchange Commission (SEC) describes it, "[W]e have evolved from a nation of savers into a nation of investors."(5)
But at a time when more Americans are trusting Wall Street with their money, they're also woefully vulnerable to scam artists. Most lack basic knowledge about how the market works and how to construct a practical financial plan. The majority of the 1,001 people taking an investor literacy test sponsored by the Investor Protection Trust, a nonprofit group devoted to investor education, lacked basic knowledge about financial terms and the way that different investments work. Just 18 percent were rated "literate."(6) A January 1997 survey by the Consumer Federation of America and NationsBank concluded that 8 percent of the people answering a 14-question questionnaire had rudimentary knowledge about how basic investment concepts relate to their financial goals. For example, few people knew that households should keep savings of three to six months worth of expenses out of the market, that people in their 30s should have roughly 70 percent of their market investments in stocks, or that those who are retired should have roughly 5 percent in stocks.(7)
Fraud Is On the Rise
Lack of knowledge can make investors more vulnerable to fraud, but recent history is full of cases where even knowledgeable investors have suffered losses because of questionable practices that abound in the market. Allegations of fraud are commonplace, and often involve major Wall Street firms.
- In the early 1990s, investors dealing with some of Wall Street's biggest firms lost money after brokers allegedly manipulated the spread on stock prices so that it was artificially wide -- selling to investors at one price but then executing the trade at a lower price and then pocketing the difference. In 1996, the SEC censured the National Association of Securities Dealers, the parent of the NASDAQ stock market, for failing to police these and other activities that harmed investors.(8) In December 1997, thirty Wall Street firms agreed to pay investors $1 billion to settle a class-action, price-fixing suit alleging that they had manipulated stock prices at investors' expense (though the firms denied any wrongdoing).(9) Still pending is a class-action lawsuit charging that Merrill Lynch, Paine Webber Inc., and Dean Witter Reynolds committed securities fraud through these practices.(10) The SEC is reportedly still investigating civil charges against some traders.(11)
- A recent expose' by Business Week claims that trading in "chop stocks," slang for stock with a large spread between the buying and selling price, may be higher than $10 billion nationally.(12) Small firms, known as "chop houses," specialize in these kinds of deals. Under a typical scheme, a stock promoter might obtain a block of stock cheaply and sell it to a "chop house." Cold-callers at the chop house then unload the stock to customers at an inflated price. Though many of these firms are small, Business Week points out that "some of Wall Street's best-known firms -- notably Bear, Stearns & Co. and Schroder Wertheim & Co. -- clear trades for chop houses, processing trading records that sometimes show massive commissions and excessive price markups."(13)
- Investors in bonds in Orange County, California got a rude shock when the county declared bankruptcy in December 1994 after racking up some $1.6 billion in losses. Municipal bonds are traditionally among the most safe investments, but in this case County Treasurer Robert Citron had invested in risky derivatives -- contracts that tie the value of one type of investment to others. Merrill Lynch was the county's main broker, but numerous major firms were involved, and dozens of lawsuits charging that investors were misled about the safety of investments are pending.(14) Most recently, C.S. First Boston Corp. agreed to pay $870,000 to settle charges that they failed to disclose the risk of investing in county bonds shortly before the county declared bankruptcy.(15)
- According to the SEC, "micro-cap" fraud is on the rise. "We have particularly seen an increase in abuses in the market for micro-cap securities, which provides opportunity for small businesses to raise capital, but also provides opportunity for fraudsters to prey on innocent investors," SEC Chairman Levitt recently told a Senate committee.(16) Micro-cap securities refers to stock for a company with low "capitalization," that is, without much money already raised from shareholders. These are usually smaller, start-up companies. Fraud in this area often takes two forms: brokers use aggressive, prohibited sales practices, sometimes even trading stocks on a customer's account without permission. In the second type of micro-cap fraud, brokers and stock issuers manipulate stock prices so that they benefit while investors lose money.
- The pickings are so ripe that the mob has gotten involved. "The mob has never seen a market that they didn't want to manipulate," James K. Kallstrom, head of the New York office of the Federal Bureau of Investigation, told The New York Times last November, after federal investigators charged 19 men in a scam that cost investors some $3 million while turning a $1.3 million profit for the conspirators.(17) The feds alleged that the Bonnano and Genovese crime families made a deal with Gordon Hall, CEO of Healthtech International, an Arizona-based fitness firm, to artificially inflate the value of his stock. At the same time, the defendants allegedly paid off half a dozen brokers at a small Wall Street firm to push the stock on investors. The defendants unloaded their stock when the price was high, leaving investors exposed to huge losses when the price plummeted.
Congress Weakens Oversight and Limits Liability
In such a climate, one would think that a major goal for Congress would be beefing up consumer protections and enforcement for investors. Far from it. The securities, accounting, and high-tech computer industries have launched massive lobbying campaigns to convince Congress that "frivolous lawsuits" and over-regulation are the only problems that need fixing. Fueled by many millions of dollars in campaign contributions from Wall Street and other related industries, Congress has responded, passing new laws that weaken regulatory oversight of the stock market and relax securities liability standards for brokers, accountants, and companies issuing stock.
Since 1995, Congress has passed two major laws that weaken government oversight of the market and soften liability standards for the industry. This year, Congress is considering legislation that would further weaken liability standards.
- Securities Litigation Reform In 1995, the securities, accounting, and high-tech computer industries successfully lobbied for a new law, the Private Securities Litigation Reform Act, which limits investors' ability to sue when they believe they have been defrauded.
Its champions said the new law would cut down on frivolous securities lawsuits. But a long list of consumer and state and municipal groups lobbied against the legislation, arguing that would make it more difficult for the victims of fraud to recover their losses. Consumers Union, the Consumer Federation of America, the Government Finance Officers Association, the National League of Cities, the National Association of Counties, and the National Association of County Treasurers and Finance Officers all opposed the law.(18) So did state securities regulators and, ultimately, the Securities and Exchange Commission.(19)
Among the law's major provisions: companies would be shielded from liability for making overly optimistic "forward looking statements" in their pitches to potential investors. In other words, a company can make all sorts of claims about its rosy future, and, as long as it includes a blanket disclaimer along with the statement, it can't be held liable.
According to the Consumer Federation of America, the new law also omitted a number of needed consumer protections. Congress refused to lengthen the statute of limitations for people filing securities lawsuits to five years after fraud has occurred -- something consumer groups had been arguing for since a 1991 Supreme Court decision had set a three-year limit. The law also failed to reinstate liability for those who "aid and abet" securities fraud, which had been struck down in another Supreme Court decision. The accounting industry, which had been hit hard by lawsuits filed by investors who lost money in the S&L crisis of the 1980s, lobbied heavily against amendments that would have overturned the Supreme Court ruling.
Though supporters of the legislation insisted their goal was to limit frivolous litigation without affecting cases that had merit, another Senate bill, S. 667, that was narrowly targeted at discouraging frivolous suits, died before receiving a single hearing.(20)
Wall Street won despite the opposition of powerful foes that are also generous campaign contributors, particularly to Democrats -- trial lawyers specializing in securities lawsuits. William Lerach is a name partner at Milberg, Weiss, Bershad, Haynes & Lerach, a firm that handles as much as one-quarter of all securities class action suits filed in the U.S.(21) Lerach, his family, and members of his firm gave $1.926 million to candidates, PACs, and the Democratic party -- both hard and soft money -- from 1993 through 1997. The Wall Street lobby criticized trial lawyers for mercenary tactics, arguing that they launched frivolous "strike suits" against high-tech computer and other start-up companies, and that they negotiated settlements more for their own benefit than their clients'.
- Weakening Oversight In 1996, Congress passed the National Securities Market Improvement Act, after being lobbied heavily by the mutual fund and securities industry. Though it contained some elements that were good for consumers, such as establishing an "800" number that investors can call to get disciplinary information about their financial advisor, it also included many provisions that reduced the likelihood there would be disciplinary information to obtain.
For example, the new law eliminated federal oversight of any investment advisor who manages $25 million or less in assets and is registered at the state level, even though many states do not have adequate oversight programs. The law limits states' ability to regulate advisors who work for large firms, even though the federal government has no program that oversees individual advisers at such firms. The law also restricts state review of mutual funds prospectuses and certain other securities sold on national exchanges.(22)
- Litigation Reform, Part II This year, the same industries that pushed the law for national securities litigation reform in 1995 are lobbying to extend that law to lawsuits filed in state courts. The Senate Banking Committee has held two hearings on S. 1260, the Securities Litigation Uniform Standards Act of 1997. A committee vote is expected in late April.(23)
Consumer and local government groups contend that the legislation is premature -- having limited lawsuits in federal court, industry wants to do the same thing at the state level, even though the effects of the 1995 law are not clear yet. "[The bill] is based on the assumption that all, or virtually all, class action lawsuits being brought in state court ... are abusive strike suits seeking to avoid the 'reasonable' protections contained in the federal law. It is just as easy, however, to make the argument that those lawsuits are meritorious cases being brought in state court because the federal law imposes unreasonable burdens on plaintiffs," said Mary Rouleau, legislative director of the Consumer Federation of America in recent testimony before a Senate committee.(24)
Who's On The Leash?
Sen. Christopher J. Dodd (D-CT)
From his position as ranking Democratic member of the Securities Subcommittee of the Senate Banking, Housing, and Urban Affairs Committee, Senator Christopher J. Dodd of Connecticut has been a leading voice for all that Wall Street wants on litigation reform and deregulation. In fact, no Senate Democrat has pushed harder on its behalf. Wall Street and related industries have rewarded the Senator with more than $900,000 in campaign contributions between January 1993 and December 1997.
Selected Contributions, PACs and Individuals ($200+) to Sen. Dodd (D-CT), by
Industry, (1/93 - 12/97)
Securities and Investment $523,551
Source: Center for Responsive Politics
On August 29, 1996, Benjamin M. Vandegrift, Washington counsel for the Securities Litigation Reform Coalition, an industry coalition, had a special request for his colleagues. "During the battle that led to the passage of the Private Securities Litigation Reform Act last year," Vandegrift wrote in a fundraising letter, "Senator Chris Dodd stood as the Senate's foremost supporter of the bill. Now he needs our help."(25) Vandegrift pointed out that Dodd needs cash for his 1998 race. "At one time he...would have waited the [sic] actual election cycle (two years) before beginning to raise money for the next election. Those days are gone." Vandegrift asked that Political Action Committees contribute $1,000 and individuals give at least $250 to attend a luncheon with the Senator on September 25. "It will be an excellent opportunity to discuss with Senator Dodd the experience that the business community has had under the Private Securities Litigation Reform Act."
Vandegrift was not exaggerating when he called Dodd the industry's "foremost supporter":
- Dodd was an original cosponsor of S. 240, the Private Securities Litigation Reform Act of 1995, introduced by Sen. Pete Domenici (R-NM) in January 1995, which was eventually folded into a House version of the bill, H.R. 1058. When President Bill Clinton vetoed the bill under pressure from trial lawyers -- generous campaign contributors in their own right -- Dodd helped organize the Senate to override the veto.(26) On December 22, 1995, the Senate voted 68 to 30 to override Clinton's veto, and the bill became law.(27)
- On March 5, 1996, at a conference sponsored by the Securities Industry Association, Dodd announced that the Senate would introduce a bill to streamline regulation of the mutual fund and securities industry.(28) Two months later, Senator Phil Gramm (R-TX), introduced S. 1815, the Securities Investment Promotion Act of 1996. Dodd was one of four original cosponsors. The bill was inserted into a House version, H.R. 3005, which became law in October 1996.(29)
- In his 1996 fundraising letter, Vandegrift says that Dodd may be helpful in "next year's Congressional battle for a statute preempting state securities class actions." Sure enough, on October 7, 1997, Dodd cosponsored with Gramm S. 1260, the Securities Litigation Uniform Standards Act of 1997. As noted before, the bill would extend the limiting provisions from the 1995 securities litigation reform law to securities lawsuits brought in state courts.
The same crowd that lobbied for the 1995 securities litigation reform law is pushing for the new bill -- but under a new name, the "Uniform Standards Coalition." Members include high-tech computer companies, venture capitalists, securities firms and the accounting profession (30), along with trade associations such as the National Venture Capital Association and the American Institute of Certified Public Accountants.(31) In just the first six months of 1997 alone, the coalition spent $780,000 to hire lobbyists at five different firms, according to federal lobbying disclosure forms.(32) Their hired guns include Tom Downey, a former Democratic congressman from New York.(33)
Showing Dodd The Money
Overall, since his last election, Dodd has raised $910,304 from the securities, accounting, and high-techcomputer industries, nearly one out of every four dollars of the $3.8 million that he's amassed from PACs and in large individual contributions for his '98 campaign. Another $11.6 million from these industries poured into the coffers of the Democratic National Committee from January 1995 through December 1996, while Dodd was chairman.
- Wall Street Gives Most The securities and investment industry gave Dodd more than half a million dollars, $523,551, between January 1993 and December 1997. Among these firms, Greenwich Capital Markets, an investment company based in Connecticut but owned by a British Company, National Westminster Bank,(34) gave Dodd the most -- $48,250. In 1990, the firm paid the government of West Virginia $600,000 to settle a lawsuit after the state lost $279 million in its consolidated investment pool in 1987. The state claimed that Greenwich Capital Markets, along with several other Wall Street firms, enticed government officials into unnecessarily risky investments. Greenwich officials said they settled to avoid lengthy litigation.(35) Other Wall Street firms giving Dodd substantial campaign contributions between January 1993 and December 1997 include Goldman, Sachs & Co., $27,500; Morgan Stanley & Co, $19,500; and CS First Boston Corp, $15,000.
- On Dodd's Account On March 1, 1997, 84 employees of accounting giant Deloitte & Touche in six states -- Illinois, Kentucky, Ohio, Pennsylvania, Iowa, and Connecticut -- contributed a total of $32,905 to the senator.(36) That's 90 percent of the $36,405 he received that day from the securities, accounting, and high-tech computer industries.
Overall, Deloitte & Touche has given the senator $133,870 -- more than any other company or organization -- since his last election. Deloitte & Touche was the most generous, but all of the "big six" accounting firms make the list of the 20 most generous contributors to the Senator.
Accountants were perhaps the biggest winners in the 1995 securities litigation reform law, beating back an attempt to reinstate liability for those that "aid and abet" securities fraud, the main avenue through which accounting firms found themselves defendants in securities lawsuits. They also won the elimination of "joint and severable liability," a legal principle that means that any single defendant in a lawsuit is liable for all of the damages. During the S&L scandal, many accounting firms got hit hard when they were the only solvent parties left to sue after the S&Ls went bankrupt.
Deloitte & Touche had been a defendant in a number of such lawsuits. In 1994, the company paid the government $312 million in a settlement agreement for its role in advising failed S&Ls.(37) In 1997, the 11th U.S. Circuit Court of Appeals overturned an $81 million 1995 jury award against the company for its part in the failure of Kroger Properties Inc., a commercial real estate investment and management company. The plaintiffs had argued that Deloitte & Touche was aware of Kroger accounting practices that misled investors about the company's health.(38)
A close look at the company's contributions to Dodd show an almost five-fold increase from 1995 to 1996, from $12,500 to $60,875, soon after Congress passed the Private Securities Litigation Reform Act, and a full two years before his reelection campaign. In 1997, the company's contributions held steady, at $60,495.
- Computer Execs Contributions Rising Of the $61,000 Dodd raised on one day, May 11, 1997, more than half --$31,750 -- came from securities and investment firms, high-tech computer companies, and venture capitalists. Among the contributors were top executives in the computer business, including $2,000 from William Joy, co-founder of Sun Microsystems and $2,000 from Hasley Minor, CEO of CNET.(39) Though the computer industry's contributions to Dodd totaled only $40,850 between January 1993 and December 1997, the amounts have increased steadily, year by year. In 1993 and 1994, Dodd received nothing from the computer industry. In 1995, he got just $5,000. But that amount more than doubled, to $12,100, in 1996, and then nearly doubled again in 1997, to $23,750. Though the computer industry has only recently begun to make a splash in Washington's money pool, high-tech computer executives obviously know how to target their contributions where they will count.
Top 20 Contributors Securities & Investment, Accountants, & Computer Industry
Donors to Sen. Dodd (D-CT), PACS & Indivs ($200+), (1/93 - 12/97)
||Deloitte & Touche
||Ernst & Young
||Coopers & Lybrand
||Greenwich Capital Markets
||KPMG Peat Marwick
||Arthur Andersen LLP
||Goldman, Sachs & Co
||Morgan Stanley & Co
||CS First Boston Corp
||Kleiner, Perkins et al
||New York Stock Exchange
||Putnam Investments Inc
||American Institute of CPA's
||Bear, Stearns & Co
||National Venture Capital Assn
||Lazard Freres & Co
||20 Investment Company Institute
*Total came from more than one affiliate or subsidiary.
Source: Center for Responsive Politics
1 "A National Survey Among Stock Investors," Study conducted by Peter D. Hart Research Associates Inc. for the NASDAQ Stock Market, February 1997.
2 Testimony of Arthur Levitt, Chairman, U.S. Securities and Exchange Commission, before the Subcommittee on Commerce, Justice, State and Judiciary of the Senate Committee on Appropriations, March 19, 1998.
3 1997 Mutual Fund Fact Book, May 1997, Investment Company Institute, http://www.ici.org/aboutfunds/factbook97_toc.html.
4 "February Cash Flow Into Long-Term Mutual Funds," Investment Company Institute News Release, March 12, 1998.
5 Testimony of Arthur Levitt, Chairman, U.S. Securities and Exchange Commission, before the Senate Governmental Affairs Committee Permanent Subcommittee, September 22, 1997.
6 "Survey: Financial Illiteracy, Bad Habits, Dangerous Mix for Investors," Investor Protection Trust News Release, May 14, 1996.
7 "Planning For The Future: Are Americans Prepared To Meet Their Financial Goals?" Study conducted by Princeton Survey Research Associates for NationsBank and the Consumer Federation of America, May 1997.
8 "SEC Comes Down Hard on Parent of NASDAQ," by Scot J. Paltrow, Los Angeles Times, August 9, 1996, P. D1.
9 "30 Brokerages Agree To Pay $1 Billion to Settle Class-Action Suit," Los Angeles Times, December 25, 1997, P. D1.
10 "Third Circuit Reinstates Nasdaq Suit," by Karen Donovan, The National Law Journal, February 16, 1998.
11 "31 Brokerages May Pay $900 Million Settlement," by Brett D. Fromson, The Washington Post, December 20, 1997, P. C2.
12 "Investors Beware: Chop Stocks Are on the Rise," by Gary Weiss, Business Week, December 15, 1997, pp. 112-130.
14 "O.C. Bankruptcy Case Settled by First Boston," by E. Scott Reckard, Los Angeles Times, January 30, 1998, P. A1.
16 Testimony of Arthur Levitt, September 22, 1997.
17 "Brokers and Mob Linked in Swindle," by Benjamin Weiser, The New York Times, November 26, 1997, P. A1.
18 "Some Call It Securities Reform," by Anne Kates Smith, U.S. News & World Report, November 13, 1995, P. 117; "State and Local Groups Decry Congressional Override Of Securities Litigation Veto," Government Finance Officers Association News Release, December 22, 1995.
19 "Senate Debate on Securities Litigation Bill May Begin Today," by Lynn Stevens Hume, The Bond Buyer, June 22, 1995, P. 5.; "House Overrides Veto of Securities Bill," by Sharon Walsh, The Washington Post, December 21, 1995, P. A20.
20 "1995 Legislative Update," CFAnews, Consumer Federation of America Newsletter, January/February 1996, P. 2.
21 "Wall Street Goes to Washington," by Nancy Watzman, James Youngclaus, Jennifer Shecter & Marc Lindemann, Center for Responsive Politics, July 1996, P 18.
22 "1996 Legislative Wrap-Up," CFAnews, Consumer Federation of America Newsletter, October/November 1996, P. 2; S.667, Bill summary and status on Internet at http://thomas.loc.gov.
23 "Regulation and Enforcement: Senate Banking Committee Set to Vote on Revised Uniform Standards Bill," by Lynn Stevens Hume, The Bond Buyer, March 26, 1998, P. 5.
24 Prepared Testimony of Mary Rouleau, Legislative Director, Consumer Federation of America, before the Senate Banking, Housing, and Urban Affairs Committee Subcommittee on Securities, February 23, 1998.
25 Form letter from Benjamin M. Vandegrift, Washington Counsel, Securities Litigation Reform Coalition, August 29, 1996.
26 "Wall Street Goes to Washington," P 18.
27 H.R. 1058, Bill summary and status on Internet at http://thomas.house.gov.
28 "Dodd Secretly Prepares Fund Legislation," Bank Mutual Fund Report, March 18, 1996, P.1.
29 H.R. 3005, Bill summary and status on Internet at http://thomas.house.gov.
30 "Coalition Applauds Senate Bill to Crack Down on Speculative Stock Suits in State Courts," Uniform Standards Coalition, News Release, October 7, 1997.
31 "Securities Litigation Reform Continues," Venture Economics Inc., April 1997. On Internet at http://www.nvst.com/vcj/4_97news4.htm.
32 Center for Responsive Politics web site on Internet at http://www.crp.org.
34 "Newmark sells Greenwich property to RFR Holdings," Real Estate Weekly, November 12, 1997, P.36.
35 Geoffrey A. Campbell, "Greenwich Capital and West Virginia Reach Settlement in Pool-Loss Dispute," The Bond Buyer, March 30, 1990, P. 36.
36 Center for Responsive Politics report based on data electronically released by the FEC on November 1, 1997.
37 "Accountants Shielded from Lawsuits: Legislation Crafted by Dodd," by Richard Keil, Associated Press, March 24,1994; "Deloitte Settles for $312 Million," American Banker's Washington Watch, March 21, 1994.
38 "Auditor Must Be Cause of Investor Loss," by Darryl Van Duch, The National Law Journal, September 8, 1997, P. B1.
39 "Capital Venturists," by Jennifer Shecter, Monday Morning Alert, Center for Responsive Politics, October 20, 1997.